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Private credit refers to non-bank lending provided by investors directly to borrowers. Unlike syndicated loans, which trade like used cars in secondary markets, these instruments are negotiated bilaterally, often with covenants and deal structures tailored for each situation.
The asset class includes direct lending to mid-market companies, mezzanine financings, distressed-debt acquisitions, and special-situations strategies. By the end of 2025, assets under management are projected to approach $3 trillion, up from $2.5 trillion in 2022 – a striking growth trajectory for any corner of the financial markets.
The market divides into distinct segments, each with its own risk-return balance:
Direct lending dominates – roughly 70% of AUM – typically involving senior secured loans to businesses with EBITDA ranging from $10 million to $200 million. These deals form the core of most private credit managers’ activity.
Mezzanine debt makes up about 10%, consisting of subordinated debt often accompanied by equity participation – effectively debt with upside potential for those willing to take on higher risk.
Distressed and special situations account for about 11% of the market, involving the purchase or refinancing of stressed, defaulted, or otherwise challenged obligations. This niche attracts those seeking outsized gains from corporate turnarounds or asset recovery.
Other strategies include unitranche facilities and asset-backed private credit, as the market seeks new methods to allocate capital.
Private credit’s growth is a direct result of bank retrenchment from middle-market lending after the Global Financial Crisis. What was once an “opportunity” became a market gap, quickly filled by alternative lenders.
Assets under management rose from $800 billion in 2013 to nearly $2.5 trillion by 2022, thanks to strong capital inflows and increased portfolio valuations. Fundraising peaked at $250 billion in 2021, dipped during 2022-23’s volatility, and rebounded to near $200 billion in 2024 as investors pursued better income due to higher policy rates.
Geographically, the U.S. claims about 60% of total AUM, Europe 35%, and the rest of the world just 5%. Asia-Pacific is still emerging, with growth constrained by regulation and lack of performance history.
Private credit investments generated net internal rates of return (IRRs) averaging 8% to 10% from 2018 through 2023, though these returns come with important caveats.
Direct lending strategies landed near the lower end (7%-9% net IRR), while distressed-debt funds registered mid-teens returns in some years. Timing matters greatly – “vintage year” performance can swing results for similar strategies.
Senior secured loan yields, according to S&P Global, averaged 10.3% in 2024, typically earning SOFR plus a margin of about 450 basis points. Mezzanine deals could see spreads close to 800 basis points over SOFR, with potential equity participation further shifting returns.
Default rates were about 1.2% in 2023; however, credit agencies cautioned that these could rise. Moody’s projects rates near 2.5% by late 2025 in a mild recession case.
For more detail on IRR calculations, see our overview of the internal rate of return.
Institutions in search of yield and portfolio diversification have increased allocations to private credit. The main draws:
Yield premium over traditional fixed income is a strong lure. Most loans carry floating rates, which help guard against interest rate increases.
Diversification benefits also appeal, with historical correlation to public equities and high-yield bonds of roughly 0.25 in several vintages. Still, as history shows, correlations can rise in periods of broad market stress.
Illiquidity premium is part of the trade – investors agree to lock up funds for several years in exchange for higher expected returns, a choice that undergoes tough assessment during turbulent markets.
By late 2024, institutional allocations averaged 4% of total portfolios globally, with some funds placing as much as 7%. Fund-of-funds and wealth managers (via feeder structures) represent about 10% of commitments.
For more about fund-of-funds, see fund-of-funds basics and the advantages of FoF strategies.
Scrutiny of credit underwriting and structural protections is vital. Market expansion has led to several developments worth close analysis.
Covenant erosion is pronounced, with “covenant-lite” loans making up over 80% of U.S. direct-lending deals in 2023. Weak protections mean recoveries in default scenarios could disappoint.
Valuation opacity is a known issue – private asset values can lag real-time market conditions by a quarter or more, sometimes obscuring losses during downturns.
Liquidity mismatch is another risk. Many funds depend on capital-call lines and the ability to stagger investor withdrawals. Should redemptions surge unexpectedly, forced asset sales at discounts can amplify volatility.
Solid due diligence requires on-site reviews, sponsor references, and scenario models for stressed cases. Data gaps in carve-out financials or volatile cash flow streams can heighten the challenge.
Dive deeper into issues like risk in financial modelling or due diligence best practices in illiquid markets.
Private credit arrangements vary, reflecting their highly customized nature.
Unitranche loans are popular, blending senior and subordinate debt into a single instrument. This simplifies cash flows and transactions but can make outcomes less predictable during stress.
EBITDA-based pricing is now standard, with loan margins often tied to leverage ratios. While this offers downside protection to lenders, it can promote aggressive EBITDA adjustments not always matched by genuine cash flows.
Loan documents may include numerous add-backs, payment easements, or lender protections, creating both flexibility and risk for stakeholders.
Fees have compressed as large investors negotiate harder. Management fees contracted from an average of 1.75% in 2018 to 1.5% recently; carried interest has settled around 10%-15%. Lower fees benefit LPs but challenge managers to maintain origination capabilities and deal-flow quality.
For a breakdown of costs, see typical private equity fee structures.
Bank regulations like Basel III have increased capital charges, compelling traditional lenders to step back from middle-market deals and fueling private credit’s growth.
At the same time, CLO (collateralized loan obligation) volume has remained near multi-year highs, at about $180 billion in 2024, providing liquidity for broadly syndicated loans and a point of comparison for private credit’s dominant, direct-lending model.
Private credit continues to attract investor attention as high-rate environments persist and regulatory arbitrage tilts the playing field. As the market moves toward $3 trillion, questions about risk management, transparency, and future regulatory response are likely to intensify.
Private credit has quickly gone from niche to mainstream, now comprising a major portion of alternative asset portfolios around the world. Institutions value its income, diversification, and ability to construct bespoke exposures that differ from public markets.
Ongoing questions about credit standards, fund liquidity, and valuation transparency deserve attention, especially as allocations grow and economic uncertainties rise. Investors and managers alike must remain alert to underlying risks, while the prospect of continued innovation and capital inflows points to further expansion ahead.
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